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For a straightforward answer, it is clear that the ultimate purpose of accounting is to provide information to different users.

In this article you will learn the purpose of accounting, some examples of accounting information and the users of financial statements. The illustration above shows a more detailed version of what we studied in the previous lesson.

We learned that accounting is the language of business. It is a medium of communicating information about an economic entity to different users for decision-making. Notice that I used "economic entity" instead of "business organization" this time.

An economic entity is a separately identifiable organization which makes use of resources to achieve its goals and objectives. An economic entity may be a business entity operating primarily to generate profit, or a non-profit entity carrying out not-for-profit operations.

It means that a "business organization or entity" refers to the for-profit type of economic entity. Nonetheless, some authors use "business entity" to refer to both for-profit and not-for-profit organizations. The important point here, however, is that both of them rely on accounting in processing and providing financial information.

Take a moment to study the illustration above.

The Purpose of Accounting

From the illustration presented, and for a straightforward answer, it is clear that the ultimate purpose of accounting is to provide information to different users. The users utilize the information in making informed economic decisions. It can actually be depicted from some definitions made by accounting bodies.

Aside from the definition we discussed in the previous lesson, the American Institute of Certified Public Accountants (AICPA) also stated that:

And then, we have another definition – one which has been in use for a long time already – by the American Accounting Association (AAA).

Both of the above definitions and the very nature of accounting suggest its basic purpose – to provide information needed by users in making economic decisions.

Here's a list of some pieces of information provided by accounting reports. These things will be clearer when you get to the tutorials on Financial Statements. For now, it is sufficient (and good) to know what information we are talking about.

1. Results of operations. This pertains to the profit generated by the company for a certain span of time (for the year, for the quarter, for the month, etc.). This is measured by deducting all expenses from all income. The resulting amount is called net income.
2. Financial position. How much resource does the entity currently have? How much does the entity owe third parties? How much remains for the business owners after we deduct all obligations from all resources? The first question actually refers to the entity's total assets; the second to liabilities, and the third to capital.
3. Solvency and liquidity. Solvency refers to the entity's ability to pay obligations when they become due. Liquidity pertains to its ability to meet short-term obligations.
4. Cash flows. The financial statements also show the inflows and outflows of cash in the different activities of the business. This will be discussed later in Understanding Business Transactions and Statement of Cash Flows.
5. Other information. The financial statements provide qualitative, quantitative, and financial information. One of the characteristics of the financial statements is relevance. Therefore, information that may potentially affect decisions of users are included in these reports.

Users of Financial Statements

So we have been talking about accounting and its purpose of providing information to users through the financial statements. Fine! – but, who exactly are these users? Meet and know more about them on the next page.

What is Accounting?
Definition and Meaning

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